Choi governments and markets in east asia; the politics of economic crises (2006)

This book examines the relationbetween economic performance, elite cooperation, and political regime stability in the context of the Asian crisis.. 1 Introduction: economic crises, polit

Governments and Markets in East Asia

The Asian economic crisis of 1997–8 had a dramatic impact not only on theregion’s economies but also on its politics This book examines the relationbetween economic performance, elite cooperation, and political regime stability

in the context of the Asian crisis It argues that economic crisis is not the cause

of greater political harmony or discord; rather, it serves as a catalyst that mayencourage elites to cooperate or conflict depending on the particular circum-stances at the time of crisis It maintains that the political consequences of theAsian crisis varied according to the type of elite that existed in a crisis-strickensociety It goes on to consider the origins and socioeconomic impacts of thecrisis in Indonesia, Thailand, Malaysia, South Korea, and the Philippines Itinvestigates the precrisis political contexts and elite configurations of these fivecountries, and considers what lessons can be drawn from their experiences.Overall, this book constitutes an impressive body of descriptive and theoreticalmaterial on the Asian crisis and the implications of economic crisis for elitebehavior and political stability

Jungug Choi is Assistant Professor at the Department of Political Science,

Konkuk University, Korea His main research interests include political partysystems, electoral behavior and political economy in East and Southeast Asia

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The politics of economic crises

Jungug Choi

Governments and Markets

in East Asia

The politics of economic crises

Jungug Choi

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To my mother and father in Seoul

1 Introduction: economic crises, political elites,

Crises, cooperation, and democratic stability 1

Elite paths to democratic stability 5

Path one to elite consensus: an elite settlement and its

preconditions 6

Path two to elite consensus: elite convergence and its

preconditions 9

Economic crisis and the deepening of elite consensus 12

Outline of the volume 14

2 The outbreak of the Asian economic crisis and its

Features and causes of the economic crisis 15

Economic vulnerabilities 18

Socioeconomic responses and effects 22

An excursus on the Philippines 25

Conclusion 25

3 Political circumstances before the Asian economic crisis:

4 Economic crisis, divided elites, and prospects

Precrisis power imbalance, external pressures,

and no elite settlement 45

Strong old-regime forces and disunited opposition forces:

political cleavages in the 1999 general election 50

Logrolling, veto power, and captured presidency:

an outcome of elite fragmentation 53

Conclusion 57

5 Economic crisis, fragmented elites, and prospects

Political cleavages before the crisis 58

The Philippines: dominant but tractable

ethno-linguistic cleavages 61

Convergence attempts and failures 62

Conclusion 74

6 Economic crisis, consensual elites and prospects

List of tables

1.1 The effects of economic performance on political stability 4

3.1 Concentration of economic power in Korea: Chaebols’

assets as a proportion of national assets before the crisis 42

4.1 Correlations between political parties’ vote percentages in

5.1 Results of the 1998 Philippine presidential election (per cent) 685.2 Philippine presidential candidates’ vote percentages

6.2 Quadratic regression of the majority shift from

6.4 Regional voting in the 1997 Korean presidential election 906.5 Government stake in Korean commercial banks before

6.6 Top five chaebols’ debt ratio and shareholders’

6.7 Chaebols’ assets as a proportion of national assets

List of figures

1.1 Elite configurations and two paths of elite change 6

2.2 Foreign exchange rates of eight Asian currencies against the

2.4 Short-term debt in Asian countries (December 1996) 202.5 Exports from Asian countries to Japan and the USA before the crisis 21

4.1 Political parties’ vote percentages from west to east in Indonesia 51

6.1 The Malay–Chinese proportion in 144 Peninsula

6.2 Ethnic identity and majority shift from the National Front

This volume analyzes relations between economic performance, elite tions, and regime stability in the five countries that were seriously affected by the1997–8 Asian economic crisis: Indonesia, South Korea, Thailand, Malaysia, andthe Philippines I subject an array of descriptive material for each country to sys-tematic analyses to determine whether the crisis intensified conflict or engenderedcooperation among political elites My point of departure is Stephan Haggard andRobert Kaufman’s thesis that economic crisis increases political instability, whileeconomic growth leads to political stability I juxtapose this thesis with those ofBarry Weingast, Karen Remmer, and others who argue that economic crisis mayactually produce more stable regimes, as well as with Mancur Olson’s claim thatneither economic growth nor crisis is conducive to political stability

transforma-My own position is that economic crisis by itself may encourage political elites

in some contexts to cooperate but drive elites in other contexts toward greater

conflict I argue, in short, that economic crisis is not the cause of greater political cooperation or conflict Rather, economic crisis serves as a catalyst for more

cooperation or conflict under circumstances that I specify To demonstrate this, Iemploy John Higley and Michael Burton’s typology of political elites, and I clas-sify elites in the five crisis-affected countries in three broad types: divided(Indonesia), fragmented (Philippines and Thailand), semi-consensual (Malaysiaand South Korea) My contention is that the political consequences of the 1997–8crisis varied according to which type of elite existed at its onset This is similar

to Juan Linz and Alfred Stepan’s path dependence thesis in which various types

of pre-transition regimes shape divergent prospects for democratic transition andconsolidation

Chapter 1 of my volume sets forth this theoretical framework, while Chapter 2discusses the origins and socioeconomic impacts of the Asian crisis Chapter 3explores the five countries’ precrisis political contexts and elite configurations.Chapters 4–6 deal with the three main country patterns: the Indonesian, theFilipino and Thai, and the Malaysian and South Korean Chapter 7 concludeswith a brief summary of my findings

Most other studies of the Asian economic crisis deal with its economic or ical consequences in a single country Even when they cover several countries,they are edited volumes that deal with various aspects of the crisis without a

polit-common theoretical framework Consequently, the existing literature about theAsian economic crisis lacks a systematic, cross-national, and comparativeanalysis.

Also, the greater portion of the literature focuses on economic issues such ashow the crisis originated, why particular countries like Taiwan and Singaporewere largely unaffected, why some countries turned to the IMF for help whileothers, like Malaysia, generally did not, and how the crisis affected regional eco-nomic cooperation through ASEAN and APEC Even when the existing literaturedeals with the more political aspects of the crisis, it discusses the process ofeconomic (i.e., corporate, financial, and labor) reform, or it addresses the issues

of why some countries adopted a neoliberal economic policy regime and howsuccessful they were in implementing neoliberal economic policies In otherwords, the existing literature is primarily oriented toward specific economic poli-cies and policymaking process Consequently, it pays little attention to the directeffects of the economic crisis on political elites

Yet, it is political elites that ultimately take the responsibility for making and implementing economic policies Even when it comes to economic crisis, politi- cal elites decide on how to handle it Moreover, political elites cannot be viewed

as a constant variable They are seriously affected by economic crisis, and, sequently, many of them rise and fall with it Crisis-induced circulations andrealignments of political elites, in turn, affect the direction and success of eco-nomic reform The scant attention in the literature on the Asian economic crisis

con-to its direct effects on political accon-tors is all the more surprising because manypundits view the crisis as having originated in political elites’ corrupt links to thebusiness sector

This volume is based on my 2001 PhD dissertation This means, among others,that a large part of this volume was practically completed over the years of1998–2000 A number of significant modifications, however, have been made forthis publication, even though key research frameworks and arguments have beenleft intact Most significant, a game-theoretical section in Chapter 1 has beendeleted off to make it more accessible to those whose primary interest lies in sub-stantial issues in Asian politics and economy Also several other sections, espe-cially in Chapters 4 and 6, have been rewritten to clarify and strengthen myarguments Nonetheless, all these revisions are limited in the sense that they arefar short of incorporating a number of new important political and economicdevelopments in the region such as the rise of Thaksin’s populist government inThailand I believe that separate works are required to deal with these recent polit-ical realignments Part of Chapter 6 was previously published in “Ethnic andRegional Politics after the Asian Economic Crisis: A Comparison of Malaysia

and South Korea,” Democratization 10 (Spring 2003): 121–34 and is reprinted

here with permission

This volume would not have been completed without numerous personal,intellectual, and financial supports from others My wife and two daughtershave always been an unparalleled source of happiness to me I also owe a debt ofgratitude to my former dissertation committee members: John Higley, Tse-minxii Preface

Lin, Melvin Hinich, Brian Roberts, and Patricia Maclachlan In particular, Ishould like to single out Higley and Lin for special thanks Higley tirelesslyworked, despite his already tight schedules, to read numerous earlier drafts of thisvolume and willingly shared his invaluable insights and perspectives with me, andLin kindly lent me strong personal support and encouragement as well as signifi-cant methodological suggestions I am also immensely grateful to all those whowere very helpful one way or another during my research field trip to Singapore,Malaysia, Indonesia, Thailand, Korea, and the Philippines in 2000 Part of myresearch including the field trip was supported by the MacDonald DissertationFellowship and the International Education Fee Scholarship of the University ofTexas at Austin I additionally appreciate very generous support and fine hospi-tality offered by the fellows and staff of the Center for East and SoutheastAsian Studies at Lund University in Sweden during my 2001–2 postdoctoralfellowship: Michael Schoenhals, Roger Greatrex, Mason Hoadley, Lise Skov,Michael Tivayanond, Marina Svensson, Annie Troedsson, and Nina Brand just toname a few I finally wish to thank series editor Edmund T Gomez for his specialinterest in my work, as well as Peter Sowden and Tom Bates at Routledge for theirkind help with this publication

Preface xiii

1 Introduction: economic

crises, political elites,

and democratic stability

The economic crisis that rolled across East and Southeast Asia in the late 1990sprovides a good opportunity to reexamine the relation between economics andpolitics One of the most interesting issues is whether regime types (authoritarianregimes, semi-democracies, and democracies) matter in dealing with economiccrises Are centralized authoritarian regimes better at coping with economic crisesthan decentralized democracies, in which policymaking is more likely to beinfluenced by those who suffer or benefit from policy choices? Alternatively, aredemocracies more resilient in economic crises than authoritarian regimes?With regard to the primacy of economic forces, a major question is whethereconomic crises undermine political stability by intensifying political conflict

or, ironically, does weathering crises actually produce greater political stability?Reflecting the economic difficulties in the wake of the communist bloc’s implo-sion and the subsequent transition to market economies in eastern Europe, as well

as the persistent economic crises that followed democratic transitions in LatinAmerica during the 1980s, much attention has been given to whether economiccrises destabilize new democratic regimes or make major political actors moreaccommodative and restrained.1

This volume focuses primarily on the causal flow from economics to politics,even though the reverse causal flow, from politics to economics, must inevitably

be considered My focus on the primacy of economics can be justified by takinginto account another primary concern of this volume, which is the more generalissue of how actors come to cooperate Thus, this volume is not confined to polit-ical economy’s customary concern with the relation between economics andpolitics; it goes beyond this to explore a central issue in formal theory (or positivepolitical economy), the origins of cooperation among self-interested actors.2Myquestion is whether economic crises promote cooperation and, if so, how? Thisquestion will be addressed together with the relation between economic crisis andpolitical stability The context is the Asian economic crisis of the late 1990s

Crises, cooperation, and democratic stability

A significant portion of the literature on democratic transition and consolidation hasconcluded that cooperative attitudes and behaviors are essential for democratic

stability, even though there are disagreements about whose cooperative attitudesand behaviors are most crucial Scholars who use concepts such as social capitaland civic culture focus on the general citizenry or masses.3By contrast, elitetheorists make key decision makers who occupy strategically important positions

in society the most crucial actors, and they think in terms of elite consensusinstead of a broad civic culture or the wide distribution of social capital.4None-theless, all agree that some irreducible and significant degree of cooperativeattitudes and behaviors is the basis of democratic stability

Despite this agreement, there is not much research on what makes actorscooperate initially and then on a continuing basis For example, after chapters ofdiscussion about the contrasting traditions of civic engagement in the north andSouth of Italy, Robert Putnam leaves his question of why the two regions gotstarted on such divergent paths unanswered:

The hierarchical Norman regime in the South is perhaps readily explained

as the consequences of conquest by an unusually effective force of foreignmercenaries More problematical and potentially more interesting are the ori-gins of the communal republics How did the inhabitants of north-centralItaly first come to seek collaborative solutions to their Hobbesian dilemmas?The response to that question must await further research, not least becausehistorians report that the answer seems lost in the mists of the Dark Ages.5Putnam is unable to specify the origins of the social capital and mutual trust that

he presents as an alternative to the dreadful Hobbesian solution to dilemmas ofcollective action, that is, third-party enforcement Putnam can only posit that

if thick networks of mutual trust exist, they can be relied on to solve problems ofcollective action In many places and times, of course, such networks do not exist One plausible source of initial cooperation is a serious crisis In fact, it has beensuggested that a way to break from tragic sub-optimal outcomes is via a crisis thatupsets the existing equilibrium For example, Barry Weingast observes that exter-nal events such as an economic crisis, an irresolvable civil war, or a new foreignthreat are required for elite groups to move from an asymmetric equilibrium to aPareto-optimal equilibrium.6One school in elite theory shares this view: a crisistriggers greatly increased elite cooperation via a sudden and deliberate elite set-tlement.7 In addition, examining contemporary Latin American experiences,Karen Remmer observes that economic crises may not, after all, be destabilizing:Patterns of government formation in Latin America during the 1980s provideadditional evidence of a trend toward consensus formation rather than polit-ical polarization Far from evincing growing symptoms of political extrem-ism and elite dissension, the 1980s were characterized by unprecedentedefforts at achieving national political consensus.8

Not everyone agrees with this view of crises as primary origins of cooperation.One dissenting view is that economic crises deepen conflicts among political

2 Governments and markets in East Asia

actors Hard economic times make it difficult for political elites to satisfy theirconstituencies; good economic times, conversely, help reduce conflicts Thus,Jeffry Frieden, looking at the same Latin American patterns as Remmer, notesthat “while the pie was growing, there was little conflict over its distribution; once

it began to shrink, political strife erupted.”9 Stephan Haggard and Robert R.Kaufman elaborate this view:

Economic conditions will determine how stable and robust [a political]bargain is Good times generate support Economic crisis, by contrast, createsincentives for the private sector to defect from that bargain, increases thelikelihood of political protest ‘from below,’ and reduces the capacity of rulingelites to manage the resulting distributive conflicts.10

[Economic] growth eases the trade-offs associated with the organization ofpolitical support, in part by permitting compensation to negatively affectedgroups More generally, growth can reduce the frustrations and conflicts result-ing from inequality or other social cleavages, and can thus mute the tendency

to political alienation and destabilizing social violence.11

Nonetheless, not everyone who believes that economic crisis intensifies politicalconflict also agrees that economic growth is conducive to deepening politicalconflict There is, in fact, a minority view that economic growth, in particularrapid economic growth, also fosters political conflict This is true especially wheneconomic growth is accompanied by economic inequality Mancur Olson is themost visible proponent of this view He asserts that “rapid economic growth is amajor force leading toward revolution and instability.”12At the same time, Olsoncontends that rapid economic decline also contributes to political conflict In hisview, “it is economic stability -the absence of rapid economic growth or rapideconomic decline- that should be regarded as conducive to social and politicaltranquility.”13

Against the widespread view that economic growth contributes to politicalcooperation while economic crisis leads to political conflict, Carlos H Acuna andWilliam C Smith present yet another model Its most striking feature is the inser-tion of time into the economic–political relation: the effect of economic perfor-mance on political conflict varies over time When economic conditions initiallyplummet, political tensions increase; however, this linear relation is reversed aseconomic crisis deepens Conversely, during an initial stage of economic growth,political instability decreases; yet, when economic conditions further improve,political tensions increase.14If we focus on the latter stages of both economic cri-sis and growth, the Acuna–Smith model is exactly opposite to the position taken

by Haggard and Kaufman as well as many other scholars

Recent theories about democratic transition and consolidation also challengethe earlier literature that attributed democratic or authoritarian breakdown toeconomic crisis.15In particular, Juan Linz and Alfred Stepan hold that democracy,unlike authoritarianism, enjoys sufficient political legitimacy to withstand eco-nomic difficulties.16The survival of most new democracies in the midst of severe

Economic crises, and political elites 3

economic crises in Eastern Europe and Latin America during the 1990s, incontrast to the democratic breakdowns that occurred in Latin America during the1960s, seems consistent with this thesis Reviewing the large literature of demo-cratic transition accumulated during the last 20 years, Barbara Geddes contendsthat the effect of economic crises on the survival of authoritarian regimes variesdepending on authoritarian regime types (military, personalist, and single-partyregimes).17 From my perspective, however, it is more interesting that this newliterature does not go further to argue that crises may actually consolidate democ-racy by unifying key political actors This is the possibility that I want to explore Before discussing this, however, it will be useful to summarize the contendingviews of how economic crisis and growth affect political stability (or consensusformation) Table 1.1 arrays some of the most prominent views.

Instead of choosing one of these conflicting views of the relation between nomic performance and political conflict, I adopt the neutral position that crises

eco-by themselves may either encourage political actors to cooperate or drive theminto deeper conflict This is, in fact, the conclusion that Ekkart Zimmermann andThomas Saalfeld reach in their study of how the economic crisis of the 1930saffected six European countries:

The economic crisis increased electoral volatility in all six countries, but led

to electoral polarization and elite polarization only in Germany and Austria.Both countries failed to form a democratic national political consensus and,

as a consequence, experienced a collapse of their democracies [while liberaldemocracies in Britain, France, Holland, and Belgium were maintained].18

My thesis is that crises are not the cause of political cooperation or conflict Rather, they serve as catalysts for cooperation in certain conditions It is the conditions in which crises serve as catalysts for cooperation that I want to

4 Governments and markets in East Asia

Table 1.1– The effects of economic performance on political stability

Increased political stability Increased political instability

Frieden Linz/Stepan (authoritarian

regime only) Acuna/Smith (initial stage) Acuna/Smith (latter stage)

Economic crisis Acuna/Smith (latter stage) Olson

explore Specifically, I intend to examine the underlying conditions and processes

in which economic crisis leads to political elite consensus and, thus, to

demo-cratic stability For this purpose, I identify two possible paths to political eliteconsensus – elite settlements and elite convergences – each of which involves acluster of distinctive conditions After examining these paths to elite consensus,

I will explore another issue of how economic crisis affects political elites that arealready fairly consensual

Elite paths to democratic stability

Focusing on economic crises and concomitant changes in political elites requiredistinguishing types of political elites There is, however, no agreed typology ofelites in political science, and each typology that has been advanced has met withnumerous objections The most recent and perhaps the most serviceable typology

is that of John Higley and Michael Burton, and it is this that I intend to employ.Higley and Burton distinguish four political elite configurations according tothe extent of elite integration and elite differentiation: consensual, ideocratic,fragmented, and divided (Table 1.2) They observe as follows:

Integration is extensive when there are inclusive formal and informal works that tie elites together and give them direct and indirect access to themost important decisionmakers Integration is also extensive when there is a

net-political modus operandi and set of game rules about which elites agree and

to which they adhere in their competitions and collaborations Differentiation

is extensive when elites are diversified organizationally, specialized tionally, and have significant autonomy from each other and from the state –

func-in a word, when elites are substantially plural.19

Even though both ideocratic and consensual elite configurations involve strongintegration and they embody different types of elite cooperation, I deal only withthe consensual elite configuration because there is no instance of the ideocraticpattern among the five crisis-hit Asian countries that I study

I also borrow from Higley and Burton their conceptions of two kinds of elitetransformations: settlements and convergences In both processes, divided orfragmented elites may suddenly, in settlements, or gradually, in convergences,

Economic crises, and political elites 5

Table 1.2– Types of political elites

(Elite integration)

Elite differentiation – Wide Consensual elite Fragmented elite Elite differentiation – Narrow Indeocratic elite Divided elite

undergo transformations to the consensual type But while I focus on these twopaths to the consensual elite type, they are not the only paths to elite cooperation.Both in logic and in reality, there are at least two more paths: one from the frag-mented elite configuration to the ideocratic and the other from the divided to theideocratic Yet, because I exclude the ideocratic elite configuration on the groundthat there are no cases of it among the Asian countries I study, only the settlementand convergence paths to elite cooperation are relevant to my study (Figure 1.1).Each path to a consensual elite involves different conditions The distinctionbetween these conditions corresponds to the distinction between divided andfragmented elites, that is, whether the existing elite is widely or narrowly differ-entiated In other words, it is necessary to have separate models of elite consen-sus formation according to where a path starts This is similar to Linz andStepan’s thesis about path dependence in which different pre-transitional regimesare displayed as providing different initial settings for post-transitional politics,and each carries different implications for democratic consolidation.20 In theHigley–Burton scheme, to become a consensual elite a divided elite has to achievenot only strong integration but also wide structural differentiation However, a frag-mented elite has only to achieve strong integration, since it already displays widedifferentiation I will next discuss sequentially the conditions for the elite settle-ment path and those for the elite convergence path.

Path one to elite consensus: an elite settlement and

its preconditions

As shown in Figure 1.1, an elite settlement is a process in which divided elitesmay suddenly undergo transformations to the consensual type The elite settle-ment thesis holds that for a settlement to occur, first there must be a history ofprior conflict in which all major elite groups have suffered heavy losses Second,there must be a power stand-off between these groups, so that there is little chancefor one group to prevail Third, a crisis erupts and threatens to impose further

6 Governments and markets in East Asia

Figure 1.1– Elite configurations and two paths of elite change.

costly losses on all major groups Fourth, in the face of these expected losses, theprincipal opposing elites choose to resolve their most basic disputes and opt tocooperate to contain the crisis and also to overcome the long-standing enmitiesthat are seen as contributing to it As a result, a consensual elite configurationbegins to emerge.21

In game-theoretic terms, the elite settlement thesis implies, as regards payoffs,that there is a hypothetical point below which any further or additional crisis-induced losses will be unbearable for each conflicting elite group This game isnot one of payoff maximization Instead, players try to avoid the worst possiblepayoff; but above this lower payoff limit, each is willing to incur some loss toadvance its interests More important, the balance of power between opposingelite groups in the game prevents any one group from transferring its loss toanother group Concurrently, the relatively even distribution of power means that

it is impossible for one group to obtain a disproportionate benefit or loss If onegroup loses in the continuing conflict, so do the others If one group gains byresolving the conflict, so do the others

The idea of an elite settlement is sometimes presented in different terms, such

as “a four-player game,” “a transplacement,” or “an extrication.”22For instance,according to Juan Linz and Alfred Stepan, four-player games involve negotiatedtransitions between authoritarian regime soft-liners and opposition soft-linerswho are both able to use and contain regime and opposition hard-liners, respec-tively Linz and Stepan specify the conditions for a true four-player game: theregime soft-liners have to have sufficient autonomy from the regime hard-liners,and at the same time, the opposition soft-liners must be sufficiently strong to playthe game against the hard-liners in their own opposition ranks In other words,both moderate elite groups who negotiate with each other must be powerfulenough to control their respective hard-liner elites.23

Linz and Stepan’s theory of four-player games or pacted transitions rightlyfocuses on the power relations between game players Yet, their four-player gamerequires moderates to be more powerful than hard-liners, and it pays less atten-tion to the power relation between the two opposing moderate groups or betweenthe regime and opposition camps more generally By contrast, I argue that abalance of power between major elites that have engaged in protracted and severeconflict is the condition for successful negotiations between them

Barry Weingast portrays this kind of elite pact as a sovereign-constituencytransgression game.24In such a game, which is designed to explain the creation

of self-enforced limited government, there are only three players: the state orking, and two citizens or societal actors The key aspect of the game is that thestate will not transgress against the citizens if both citizens are willing to fightjointly for the limits on the state The game’s outcome is “self-enforced” limitedgovernment in the sense that it is in the interest of the state or king to accept bound-aries to its power once it is aware of the other players’ willingness to jointly opposeany other outcome Yet, this self-enforced limited government is only one of themultiple equilibria in Weingast’s game Analytically, there must be a focal point

Economic crises, and political elites 7

to ensure that the Pareto-optimal equilibrium emerges instead of other possibleequilibria; constitutions, a leader, or a riot may serve as such a focal point.25However, a focal point does not impel actors to move out of an existing asym-metric or non-Pareto-optimal equilibrium in the first place To find out how andwhy actors break out of a non-Pareto-optimal equilibrium in the first place,Weingast advises us to go back to external shocks or some other exogenousforce.26For Weingast, the genesis of cooperation cannot be simply reduced to asudden coordination among actors who are willing to terminate their conflict ifthey are given a reliable mechanism of enforcement

Weingast does not pay due attention to the existing power relation betweenactors in a conflict situation Yet this is crucial for understanding why they moveout of an existing non-Pareto-optimal equilibrium Even in his three examples

of an elite pact – England’s Glorious Revolution settlement in 1688–9, ElSalvador’s peace accords in 1994, and the Missouri Compromise of 1820 – a bal-ance of power among the actors in each conflict was crucial for reaching an elitepact The Glorious Revolution settlement was possible only because the Tories’previously superior power position, which had been buttressed by the king(James II), was undermined by the breakup of the collusion between James andthe Tories This created a power balance between the Tories and the Whigs Withregard to the El Salvador pact, Weingast notes that “after years of war, both theinsurgents and the regime recognized that neither could win.” Finally, with regard

to the Missouri Compromise, “the problem of sectional dominance was no longerone-sided, but reciprocal Reciprocal vulnerability drove both sides [northernersand southerners] to resolve the problem.”27

Some scholars nevertheless hold that a power balance is more likely to result in

a temporary or sub-optimal solution to a conflict For example, Adam Przeworskiclaims that when the power relation between political forces is balanced, there is

no equilibrium in pure strategies, and one possible outcome is civil war Yet prospects of a prolonged conflict, of a civil war lasting perhaps for gen-erations, are forbidding Hence, political forces may be led to adopt someinstitutional framework, any framework, just as a temporizing solution.28Przeworski goes on to claim that a stable institutional arrangement is reachedwhen the power relation between forces is unknown, as behind a “Rawlsianveil.”29This seems unrealistic to me I argue that a mutually acceptable, and hencemore long-lasting, set of institutions will be established only when the powerrelation of forces is balanced, because an institutional agreement reached in thissituation serves no particular political elite group disproportionally

To summarize, a power balance and a crisis jointly favor elite cooperation Inmore detail, an even distribution of power between players is critical to inducingthem to reach a compromise in the face of a crisis Crises by themselves do notlead to cooperation unless they are accompanied by an even distribution of poweramong the major actors Where there is a highly unbalanced distribution of power

at the onset of a crisis, one of the players is well positioned to impose all or some

8 Governments and markets in East Asia

of its loss on the other(s) Even if all players happen to suffer the same absolutemagnitude of loss, the previously better-positioned player in the uneven distribution

of power more easily bears the loss than the previously poorly positioned player

We may hypothesize that a crisis transforms divided elites to consensual elites

if and only if there is no grossly uneven distribution of power between the majorelite groups before the crisis To apply this theory of elite settlements to a partic-ular country that has experienced a crisis, we first have to ask whether thereexisted a deeply divided political elite in the country before the occurrence of thecrisis If the answer is yes, the next question is whether the balance of power wasmore or less even between the groups making up the divided elite If no evenbalance of power could be observed, then the prediction must be that the dividedelite was unlikely to negotiate a settlement and move toward consensus Indeed,

it might have become fragmented if the dominant group lost control as a quence of the crisis Alternatively, the elite as a whole might simply haveremained divided during and after the crisis The main test case will be Indonesia,which clearly had a divided elite before the onset of the economic crisis in late

conse-1997 as I will discuss in Chapter 3

Path two to elite consensus: elite convergence and

its preconditions

Fragmented elites may be transformed into consensual elites by following a vergence path that begins in a crisis and unfolds after it (Figure 1.1) Whereas anelite settlement takes place in a short period under circumstances in which thepolitical influence of the mass publics is limited, elite convergence is a longerprocess in which mass electorates exert significant influence on the competitionbetween the groups making up a fragmented national elite

con-The process of elite convergence occurs when a broad electoral (more precisely,preelection) coalition is formed and then wins elections repeatedly To avoidpermanent exclusion from executive office, previously semi-loyal or anti-systemparties are thus tempted to moderate their ideological positions, acknowledge the

legitimacy of existing democratic institutions, and try to gain electoral victory

within the existing competitive electoral rules The crucial element in this path to

a consensual elite is that parts of a fragmented elite form an electoral coalitionpowerful enough to threaten the virtually permanent exclusion of semi-loyal oranti-system parties from government executive power simply by adhering to theworkings of minimal electoral rules In short, elite convergence is achievedthrough the formation of a stable winning electoral bloc, a consequent narrowing

of ideological differences, and eventually, the electoral victory of the previouslydissident elites

France from the formation of the Gaullist winning coalition in 1960 until themoderation of the Socialists in the 1970s and their electoral victory in 1981 is theparadigm case of an elite convergence.30 The French elite convergence beganwith the formation of the Gaullist center-right elite coalition against the left andits victory in the National Assembly elections of November 1962 Thereafter,

Economic crises, and political elites 9

previously fragmented French elites were increasingly arrayed in two broadcamps: the dominant center-right coalition, and the parties on the left includingthe Communists and the Socialists Over the next 20 years, the electoral domi-nance of the center-right coalition gradually forced the leftist elites to reexaminetheir strategies, policies, and ideologies By the mid-1970s, the Communist Partyhad abandoned its antisystem stance and accepted the existing electoral gamerules that had been laid out by their former political opponents To challenge thedominant center-right coalition, the Communists sought a rapprochement withthe refurbished and newly moderate Socialists The result was the Socialist–Communist Common Program for Government After the Communists’ with-drawal from the Program in 1978, the Socialists became the largest leftist partyand they finally won the presidency, together with an absolute majority in theNational Assembly, in 1981 Since then, though hardly free of the normal push-ing and shoving of politics, French elites have repeatedly exhibited much restraintand moderation in their contests and, for the first time in French history, politicalinstitutions have been stable.

One big question with regard to this convergence path is how to form a stable

dominant electoral bloc in the first place or why roughly half the previously flicting political elites become united and remain so, thereby eventually pressingother political elites to moderate their positions to compete for government exec-utive power effectively This question remains unanswered although it is specu-lated that the initial formation of a dominant electoral bloc is most probably aresponse to a crisis or an attempt to manage a crisis For example, the Algeriancrisis of 1958 in France provided the initial conditions for the Gaullist bloc’sformation

con-Obviously, not every crisis initiates a convergence among fragmented elites.But convergence is more likely when fragmented elite groups, including anti-system groups, are located along an ideological spectrum or other linear politicalcleavage line This does not mean, however, that there must be only one politicalcleavage line for an elite convergence to occur All societies have several cleav-age lines that often crosscut each other The questions are, rather, whether onepolitical cleavage line predominates over others, and what that predominantcleavage line is A single issue dimension with no fixed center, such as ethnicity,

is much less conducive to creating a point of convergence than is a single issuedimension that has a nonarbitrary center, such as a class-based, income-based, orideological cleavage.31In this sense, a society whose most salient political cleav-age is class opposition or income distribution is more propitious for democraticstabilization through elite convergence than one whose most salient politicalcleavage is ethnicity or regionalism

Many scholars point out inherent problems of democracy in a society riddenwith ethnic conflicts unless democratization is supported by particular institutionsthat discourage majority rule.32A frequently cited reason for the possible incom-patibility of democracy and ethnicity is psychological in nature.33 I share thisview about the possible incompatibility of democracy and ethnicity, but I present

a different reason for their incompatibility An ethnic identity is qualitative and

10 Governments and markets in East Asia

indivisible Qualitatively different ethnic groups cannot be arrayed on a singlelinear line Moreover, an ethnic cleavage does not have a single nonarbitrarycenter like an ideological one On such a cleavage, there is no inherent center orleft or right This means that an ethnic cleavage has no center of gravity towardswhich disintegrating political forces converge

It has already been shown amply by spatial theorists that when voters havingsingle-peaked preferences are distributed over a single linear issue dimension, amedian voter can never lose in a majority rule contest In other words, politicalactors have a strong incentive to converge to the median point to win an election.Spatial theorists also prove that when there is more than one linear issue dimen-sion, it is much more difficult to reach an equilibrium than if there is only a sin-gle linear issue dimension.34Here I make a slightly modified argument that even

if the issue dimension is single, it is nearly impossible to reach a stable rium unless the issue dimension has a nonarbitrary center In other words, for themedian voter theorem to be applicable, the single dominant issue dimensionneeds to be linear in the first place When there are qualitatively different ethnicgroups in conflict, they cannot be arrayed along a nonarbitrary linear line

equilib-I also do not put as much weight on the crosscutting of cleavages as on the tence of a single dominant cleavage and its nature A part of the literature, in par-ticular, that on American politics, has put forward a different claim, to wit, thatdemocratic stability is built on multiple issue cleavages that crosscut, instead ofreinforcing, each other.35By contrast, I contend that the number of salient issue

exis-dimensions and the nature of the predominant issue dimension are more tant than crosscutting dimensions The two best-known propositions about therelation between political cleavages and democratic stability focus on the psy-chological cross-pressures that stem from the crosscutting of multiple issuedimensions or the extent of homogeneity in an ascriptive cleavage One proposi-tion is that “if there is not sufficient crosscutting between politically relevantcleavages, then democratic political organization is not likely to be stable.” Theother is that “if a society is either too homogenous or too heterogeneous overracial, linguistic, and religious cleavages, then democratic political organization

impor-is not likely to be stable.”36Unlike the first proposition about crosscutting

cleav-ages, I argue that what matters is the existence of a single dominant issue sion This implies that the reinforcing or overlapping of cleavages sometimes

dimen-helps to moderate extreme positions, because it practically reduces the number ofcleavages and, consequently, creates a simpler issue agenda.37Unlike social plu-

ralists, on the other hand, I emphasize a linear cleavage dimension The

modera-tion of previously nonconciliatory issue posimodera-tions does not depend on the degree

of ethnic homogeneity (or heterogeneity) but on whether nonascriptive cleavagesare more salient than ascriptive cleavages

With regard to the Asian economic crisis, my analytical framework leads me toexamine cleavage structures in countries with fragmented elites to determinewhether there was a predominant political cleavage line before the crisis, and, if

so, whether it constituted a linear issue dimension with a nonarbitrary center Ifsuch is found, I will predict that the country was more likely to spawn the stable

Economic crises, and political elites 11

winning electoral coalition, that is, the initial step in an elite convergence Ofcourse, to provide a complete analysis of elite convergences, I also have to exam-ine the status of anti-system parties The test cases will be the Philippines andThailand As mentioned in Chapter 3, both countries had fragmented elites at theonset of the economic crisis in late 1997.

Economic crisis and the deepening of elite consensus

So far, I have discussed two paths through which elites become consensual as aconsequence of a crisis: an elite settlement through which a divided elite is trans-formed into a consensual elite, and an elite convergence through which a frag-mented elite becomes a consensual elite However, what about elites that arealready consensual before a crisis? Does an existing consensual elite survive acrisis or does it break apart into the fragmented or divided configuration? Suchpossible crisis-induced breakups of consensual elites are wholly unstudied Eventhough consensual elites are in a better position to cope with a new crisis thanfragmented or divided elites, they are not invulnerable to an unprecedented shock

As discussed in Chapter 3, there is no case of fully consensual elite among thecountries studied here There are only the semi-consensual elites in Malaysia andSouth Korea to assess Hence, I will ask whether and how the partial consensusamong Malaysian and Korean elites either increased or decreased as a consequence

of the severe crisis that both countries experienced in 1997–8 Put differently, I willnot explore the underlying conditions for deepening elite consensus; instead, I willassess the Malaysian and Korean elites’ resiliency in the face of that crisis

It is not easy to classify precrisis Korea or Malaysia in terms of its elite figuration For instance, some scholars rather view the Korean elite as fragmentedand the Malaysian elite as divided Other experts rather classify both as simplyconsensual.38 There is some truth in either of these views Considering theseexpected disagreements, here, it is good to offer a brief comment about theMalaysian and Korean elite configurations I leave a detailed description of thoseconfigurations until Chapter 3, where I deal with all five countries’ politicalcircumstances before the economic crisis, focusing specifically on their eliteconfigurations

con-Before the onset of the economic crisis in 1997, a supermajority elite group,based in the National Front (or, formerly, the Alliance), had continuously ruledMalaysia The national elite as a whole lacked wide structural differentiation but

it still exhibited relatively strong integration Obviously, the precrisis Malaysianelite was not of the ideocratic type since there was without a single political ide-ology akin to state-socialism or fascism Rather, Malaysian elite integrationderived at least in part from the omnipresent threat of ethnic violence in an emi-nently multiethnic society Moreover, the extent of elite differentiation was muchwider than in state-socialist or fascist systems, while elite integration was not ascentralized and rigid

Neither was the precrisis Malaysian elite configuration divided The dominantMalaysian elites had constantly legitimized themselves through regular and

12 Governments and markets in East Asia

significantly free popular elections Even though these elections had not beencompletely free, opposition parties had never boycotted them, and some opposi-tion groups had occasionally been part of the ruling alliance This implies thatMalaysian elites were integrated to an extent greater than is characteristic ofdivided or fragmented national elites.

But the precrisis Malaysian elite was not entirely consensual either, primarilybecause the degree of elite differentiation was not impressively great This is why,unlike in other pluralistic democracies, the National Front was the perennial win-ner, even if its margin of victory varied from election to election The Malaysianelite, in other words, did not operate a democracy in which “organized uncer-tainty” is a central feature: electoral outcomes were instead certain, and rules ofthe game had arbitrary aspects Moreover, the absence of organized uncertainty inMalaysia derived importantly from the National Front’s strong and unwaveringelectoral support by the largest ethnic community, the Malays

In sum, before the economic crisis of 1997–8 the Malaysian elite was consensual: elite integration was quite strong, but elite differentiation was notvery wide To a lesser degree, this was also true of the South Korean elite Ofcourse, South Korea’s political system was more competitive and pluralist thanMalaysia’s, and its new democracy successfully and gradually got rid of one ofthe common threats to democracy, that of a military coup, before the economiccrisis hit the country Nevertheless, as discussed in Chapter 3, Korean elites didnot have significant autonomy from each other and from the state, even thoughbusiness elites’ autonomy from the state steadily strengthened after the democratictransition in 1987 More important, the dominance of regional voting cleavagesinvolved rigid linkages between the political elites and voters This rigidity inindividual voting further lessened elite differentiation, despite the free electoralcontests at the system level after 1987 The persistence of regionally hegemonicpolitical parties prevented the evolution of policy-oriented political parties thatwould be more widely differentiated In addition to the rigidity of regional voting,the concentration of national assets in a few industrial oligarchs or chaebols keptelite differentiation quite limited

semi-Concerning the impacts of the Asian economic crisis on Malaysia and SouthKorea, I intend to assess the postcrisis political circumstances in both countries interms of elite consensus to tell whether the crisis had the effect of consolidatingthe already fairly consensual elites For Malaysia in particular, it will be impor-tant to ask whether the crisis resulted in a breakup of the Malaysian supermajor-ity elite group and whether it decreased the magnitude of rigid ethnic votingamong the Malaysian mass public If this group broke up and the magnitude ofethnic voting decreased as a result of the crisis, elite consensus and cooperationwould actually be enhanced Likewise, to see whether the economic crisis deep-ened elite consensus in Korea, I will focus on how it affected elite differentiationand rigid regional voting cleavages I will seek to determine if the rigid regionalvoting became more fluid in the wake of the economic crisis, whether the busi-ness sector became more autonomous from the state, and whether national assetsbecame less concentrated in the hands of chaebols Autonomous societal actors,

Economic crises, and political elites 13

detachments from regionally hegemonic parties, and decentralized national assetsdeepen elite consensus by enhancing elite differentiation in Korea

Outline of the volume

The Asian economic crisis is described and analyzed in Chapter 2 There I focus

on its underlying causes and socioeconomic consequences, as well as the nationalresponses to it In Chapter 3, the precrisis political conditions of the five countriesthat were hardest hit by the crisis are reviewed: Indonesia, South Korea, Thailand,Malaysia, and the Philippines I will highlight the precrisis elite configurations inall five, and I will classify these as divided (Indonesia), fragmented (Philippinesand Thailand), and semi-consensual (Malaysia and South Korea) Using thisclassification, in Chapter 4, I will analyze prospects for an elite settlement inIndonesia in the midst of crisis and why none occurred In Chapter 5, I will ana-lyze prospects for elite convergences between the two fragmented national elites,the Filipino and Thai In Chapter 6, I will ask how economic crisis affected elitecooperation among the already semi-consensual Malaysian and Korean elites.This volume concludes in Chapter 7 with a brief summary of my findings andtheir implications

14 Governments and markets in East Asia

2 The outbreak of the Asian economic crisis

and its socioeconomic consequences

Features and causes of the economic crisis

To provide some preliminary knowledge of the Asian economic crisis, thischapter summarizes (1) why the crisis erupted, (2) how actors reacted to it, and(3) what its main socioeconomic consequences were Even though the causes andsocioeconomic outcomes of the crisis are not my major concern, the causes are,

to some extent, relevant to the key issue of this volume, namely, elite cooperation

For the actors to cooperate, they need to perceive a crisis as a serious common

threat In general, this perception is more readily formed when the causes of a sis are exogenous, such as a foreign military threat At the end of this chapter, Ialso discuss why I view the Philippines as a crisis case and include it in this study,even though others might disagree

cri-The economic crisis in East and Southeast Asia in the late 1990s had somenotable characteristics First, no one expected it; hence, the crisis came as a greatshock Before the crisis, almost every macroeconomic indicator in the region wasregistering strong economic performance This could be seen in high rates ofGDP growth and national savings and low rates of unemployment Figure 2.1arrays the strong economic growth rates in the region, which slowed somewhat inthe mid-1990s.1

The economic crisis thus occurred in countries that had beenhighly touted as models of economic development for other developing countries,except the Philippines.2

Second, the crisis occurred not in a single country but in the whole region Bycontrast, the Mexican economic crisis of 1994–5 was confined largely to Mexico.The Asian crisis started in Thailand and spread quickly to neighboring Malaysia,Indonesia, and the Philippines, as well as more distant South Korea.3

Third, the crisis occurred in a politically heterogeneous set of countries Thehardest-hit countries, such as Thailand, Indonesia, and South Korea, had quitedifferent types of political regimes Thailand had a regime that had long oscillatedbetween democratic and military forms – a very unstable regime Indonesia had

an overtly authoritarian regime Finally, South Korea had a democratic regime inplace since 1987 So it is impossible to attribute the crisis to a particular form ofpolitical regime

However distasteful they may be, authoritarian regimes do not necessarilyprompt economic crises Some politicians, including South Korean PresidentKim Dae Jung, believe that authoritarianism was responsible for the Asianeconomic crisis.4Stephan Haggard points to some inherent weaknesses of author-itarianism such as the risk of arbitrary action, the lack of transparency in business-government interactions, and uncertainties in leadership successions At the sametime, he emphasizes the purported advantage of democracy in its self-correctingmechanism for voting out incompetents and bringing reformers into government.5Yet, in addition to the fact that a number of democracies had broken down amideconomic crises earlier, a presidential democracy, as in South Korea and thePhilippines, has fixed terms that do not lend themselves to voting out incompe-tents quickly The holding of presidential elections within a year of the outbreak

of crisis in South Korea and the Philippines were purely accidental Moreover,Thailand’s parliamentary democracy did not hold a new election to replace itsincumbent coalition government; instead, there was a simple realignment of thegoverning coalition

Fourth, the crisis was initiated by a steep devaluation of local currenciesagainst the US dollar Figure 2.2 portrays how much each local currency in Asiawas devalued Indonesia was hardest hit by the currency crisis among the eightcountries in the figure: Indonesia, Korea, Thailand, Malaysia, the Philippines,Taiwan, Singapore, and Japan The Korean, Thai, Malaysian, and the Philippinecurrencies were also seriously devalued Among this middle-range group, thePhilippines peso was the least affected, and the Korean won the most affected

As compared to these five currencies, the Taiwan, Singaporean, and Japanese

16 Governments and markets in East Asia

Figure 2.1 Asian economic growth before the regional crisis.

Source: The Statistics and Data Systems Division at the Economics and Development Resource

Center of Asian Development Bank, http://internotes.asiandevbank.org The figures are in constant prices.

currencies were only moderately devalued Other economic problems, such assoaring interest rates, inflation, and unemployment, only followed the currencydevaluations In this sense, the crisis was different from previous Latin Americandebt crises, even if it was closely related to unmanageable amounts of (mostlyprivate sector) debt In addition, the pattern of the Asian crisis, which began withthe meltdown of local currencies, was different from eastern European cases, inwhich the sudden political collapse of state-socialist regimes largely precededsocioeconomic crisis.

There are widely varying views about why the Asian crisis occurred Sometend to emphasize its external causes, viewing the crisis as attributable largely tothe unpredictable movements of international capital.6

On the other hand, somehold that the crisis testified to the failure of the Asian economic model and its fun-damentals.7

Still others think that the crisis was an instance of market failure, that

is, a failure of international finance capital markets They tend to blame excessivefinancial and market liberalization.8

Or again, some believe that the crisis wassimply another chapter in the global tendency of states to retreat from markets.9For these observers, strong state intervention in markets was the problem Thedecline of state intervention had previously been seen in the total collapse of aplanned economy in the former Soviet bloc; it had also been seen in the retreatfrom Keynesianism among the economically advanced Western countries.10

Outbreak of the Asian economic crisis 17

Figure 2.2– Foreign exchange rates of eight Asian currencies against the US dollar from May 1997 to May 1998.

Source: Pacific Exchange Rate Service, http://pacific.commerce.ubc.ca.

The dominant view holds that the crisis was primarily caused by domesticfactors in debtor countries For instance, inexperienced local financial institutionsand their mismanagement of credits are often blamed Although a significant pro-portion of the credits given by international banks were short-term, local banksloaned this borrowed money to their clients on long terms Still worse, some ofthe borrowed money was spent on nonproductive sectors such as property assetsand on political funding and kick-backs Finally, even where borrowed moneywas spent in productive sectors, it was often invested in identical projects, whichcaused overproduction both in region and in particular countries.11

Against the dominant view that emphasizes the primary responsibility ofdomestic actors and institutions, I hold to the view that the crisis arose, primarily,from unprecedented massive attacks by external currency speculators on finan-cially vulnerable countries In other words, local financial institutions did notinitiate the crisis; rather, they were more its victims.12A limited InternationalMonetary Fund (IMF) study indeed confirms that hedge funds were responsiblefor the initial Thai currency devaluation

A study by the International Monetary Fund revealed that these funds took

up large positions against the baht two months before the de facto tion of the currency on July 2, Barry Eichengreen, IMF’s senior policy advi-sor, told a media briefing here [Washington] “Sources of evidence point tothe fact that some macro hedge funds had large positions against the baht inthe summer of 1997,” Eichengreen said “It appears to us that hedge fundpositions against the baht were built up gradually but they turned quite largeonly in the last two months prior to the Thai devaluation,” he added 13

devalua-Yet, due to the secretive transactions of international speculative capital and thelack of much data about them, it is beyond this volume’s ability to analyze whatspeculators did or did not do Here, the discussion is instead focused on the inter-national factors that contributed to the financial vulnerability of local economies.Many of these factors were well beyond the control of local economic actors andgovernments

Economic vulnerabilities

The economic vulnerability of Asian countries, which increased the likelihood ofbeing attacked by speculators, had several components It was more than a simplematter of weak local financial institutions The primary component was that theunprecedented economic growth in Asia had been heavily debt-financed

A tremendous absolute amount of debt was the dark side of Asia’s brillianteconomic performance during the 1980s and early 1990s The poor economicperformance of the US economy and the high savings and weak domestic demand

of the Japanese economy in the late 1980s and the early 1990s had driven out theirworst-performing holders of capital to Asia’s developing economies Figure 2.3shows that after 1988 or 1989, the total amount of debt in South Korea, Thailand,

18 Governments and markets in East Asia

and Indonesia, which were the hardest-hit countries, had continuously anddramatically increased.

Although China had the largest amount of debt in Asia, it was not attacked

by speculative capital One reason was its tightly controlled foreign exchangemarket, and a second reason was its possession of the largest or second largestamount of foreign exchange reserves in the world.14Two moderate crisis cases,the Philippines and Malaysia, accumulated a relatively small amount of foreigndebt Malaysia was the country that had relied most heavily on foreign directinvestment, rather than debt financing, before the crisis broke out.15Long beforethe crisis began, the Philippine economy was under IMF economic trusteeship.16Unlike other Asian countries, the Philippines’ economic performance was notimpressive until the few years immediately before the crisis, as seen in Figure 2.1.Hence, it was not treated as an example of the Asian economic model, whichfeatured highly debt-financed and export-driven economic growth

The vulnerability that arose from extreme exposure to international financialmarkets was reinforced by the fact that a significant proportion of total debt wasshort-term financed The ratio of short-term to total debt was especially high inthe three hardest-hit countries, South Korea, Indonesia, and Thailand Figure 2.4shows the proportion of short-term credit compared with total debt in December

1996 This does not mean, however, that the international financial institutions ormarkets that provided short-term credits caused the financial crisis Rather, theycontributed to its deepening by withdrawing their mature credits as a reaction tothe initial devaluation of local currencies and the consequent disappearance ofinvestor confidence in local debtor countries Speculative attacks by “hot money”

on local currencies triggered the crisis, even if the region wide effect was notintended or expected by the attackers

Outbreak of the Asian economic crisis 19

Figure 2.3– Total identified debt in Asian countries.

Sources: The 1985–1995 data come from OECD, External Debt Statistics: Resource Flows, Debt Stocks, and Debt Service, 1985–1996 (Paris: OECD, 1997) The 1996 data are from OECD, External Debt Statistics: The Debt of Developing Countries and CEECs/NIS at end-December 1996 and end- December 1995, 1997 ed (Paris: OECD, 1997) The pre-1985 data come from OECD, Financial and External Debt of Developing Countries: 1991 Survey (Paris: OECD, 1992).

It is important to observe that the high ratio of short-term debt was a rationalresponse to international financial markets Local actors preferred short-termfinancing because interest rates for short-term credits were usually lower than forlong-term credits In addition, no one expected the sudden collapse of boomingAsian economies Only with hindsight can one say that it was irrational for finan-cial actors in the Asian countries to have chosen such risky financing.

A third international component that put much pressure on local currencies

to devalue was the unilateral devaluation of China’s currency in 1994.17Aftermid-1994, the Southeast Asian countries whose currencies were not devalued,lost much of their competitiveness in export markets and international capitalmarkets The Southeast Asian countries and China had similar export items based

on cheap labor, such as textiles, and they occupied proximate positions in the

international division of labor As a Washington Post article reports,

In the past two years, pushed by foreign investments and booming exports,China’s foreign exchange reserves have nearly doubled The $130 billionreserves of the People’s Bank of China are evidence of, as H Ross Perot puts

it, the huge sucking noise moving industries from all over Southeast toChinas.18

Declining competitiveness contributed to decreased economic growth rates inSoutheast Asian countries.19For instance,

Thailand’s loss of competitiveness in labor-intensive products became veryapparent in 1996, when total exports declined by 0.2 percent, compared withincreases by over 20 percent per annum in previous years Exports of somekey items, such as medium to low end garments and shoes, declined by about30–40 percent in 1996

20 Governments and markets in East Asia

Figure 2.4– Short-term debt in Asian countries (December 1996).

Source: OECD, External Debt Statistics, 1997 edition.

To a lesser degree, this was also true of South Korea, which had a more advancedeconomic structure than the Southeast Asian countries

A fourth pressure on the value of local currencies came from a power shift inthe international economic structure, specifically, in the economic power rela-tionship between Japan and the USA By the mid-1990s, the sluggish economicgrowth of Japan and the recovering US economy, and the consequent reversal intheir bilateral power relationship, made the Japanese yen weaker against the USdollar One of the implications of the yen’s weakening was that other Asian localcurrencies, whose values were fixed to the US dollar, became substantially over-valued This took place when their economies were increasingly dependent on the

Japanese economy, vis-a-vis the US economy, as an export market, as shown in

Figure 2.5 To regain their economic competitiveness, the Southeast Asian andKorean currencies needed to be depreciated

A final international factor that contributed to the capital exodus from Southeastand East Asia was the availability and attractiveness of other capital markets Inparticular, the reviving US economy was a major alternative for capital that had

earlier been invested in Asia As a Washington Post report says,

Much of the investment capital that has been fleeing from Asia has sought thesafe haven of the U.S bond market, driving interest rates below 6 percent.Already corporations and homeowners are rushing to refinance their debt,freeing up cash that could spur the economy through increased consumerspending and capital investment.20

Had this not been the case, foreign capital in Southeast and East Asia would morelikely have been trapped there, and consequently, there would have been no otherchoice but to share the costs of financial adjustment in Asian countries But this

Outbreak of the Asian economic crisis 21

Figure 2.5– Exports from Asian countries to Japan and the USA before the crisis.

Source: Economist, The Economist Pocket World in Figures 1998 (New York: John Wiley & Sons,

1997) Data refer to the year ending 31 December 1995.

was not so One observer complained about the consequent strong bargainingpower of creditors as follows: “Debtors are not allowed to talk, but to agree.”21The weak bargaining power on the part of the Asian debtor countries invalidatesthe previously convincing Latin American maxim that “If you owe your banker athousand dollars, he owns you; if you owe your banker a million dollars you ownhim.”22Accordingly, international banks and creditors did not absorb financiallosses stemming from the crisis; instead, they simply continued their businessunscathed.23 They forced local debtors and the general public to bear all thecosts Moreover, local banks and financial institutions were blamed for theirmoral hazard

In sum, against the dominant current view that domestic actors or financial andpolitical institutions were responsible for the crisis, I emphasize the internationalfactors that increased the crisis-hit countries’ economic vulnerabilities to specula-tors’ attacks and yet were beyond the control of domestic actors or institutions Themain causes of the crisis were to be located in the international economic structure.Even though I agree with the dominant view that the restructuring of domesticinstitutions was (and remains) necessary, this was less to prevent the recurrence of

a crisis than to reduce the negative impact of a crisis once it breaks out

Socioeconomic responses and effects

Since many books and articles about the socioeconomic effects of the crisis andthe local socioeconomic responses to it have appeared, I will only point to themost notable features and trends during the first two years after the crisis brokeout, although the longer-term trends might change.24One of the principal respon-ses to the crisis was prevalent ‘self-criticism,’ even though the crisis was causedmainly by international capital movements Consequently, most of the countriesunder attack did not blame the attackers to the extent that they might have donebefore Put differently, there were few strongly nationalistic reactions to the cri-sis The exception was Malaysia Prime Minister Mahathir warned, for instance,that liberalization, deregulation, and globalization would “enrich the alreadyrich at the expense of the poor.”25But in spite of its prime minister’s strong anti-imperialist rhetoric, Malaysia also remained loyal to IMF-style policies for morethan a year after the crisis began.26

More generally, however, almost no one voiced strong dependency complaints;instead, each country tried to become more incorporated into a world market thatwas dominated by the United States.27Rather than protecting their domestic cap-ital from external attack, most countries sought to open their economies further toforeign direct investment This was in contrast to the nationalistic responses to thedebt crisis during the late 1970s and early 1980s, in Latin America and to a lesserdegree in Asia In that earlier period, the idea of opening markets to foreignproducts, not to mention foreign investment, was a taboo By the late 1990s, how-ever, Asian governments not only did not hesitate to open their markets to foreignproducts but also competed for foreign capital in the form of both loans andforeign ownership, and this competition was intensified by the crisis.28

22 Governments and markets in East Asia

The crisis-hit countries also did not much dispute the fact that business andlabor in debtor countries, as opposed to creditor banks and countries, had to bearvirtually all of the costs International creditors did not have to write off any oftheir credits, unlike in earlier downturns.29

The Asian countries displayed a more or less uniform policy response to thecrisis Their policies were coordinated, even dictated, by the IMF The IMF’sinitial policies were mainly designed to strengthen market mechanisms and reducegovernment intervention in the local economies In detail, these policies calledfor smaller governments and larger government budget surpluses by cutting gov-ernment subsidies The IMF also demanded lower growth rates, freer foreignexchange markets, more transparent transactions in local businesses, higher inter-est rates, and more flexible labor markets Finally on the IMF’s agenda was therestructuring of domestic financial institutions, to include closing some of them.30The IMF’s market-oriented measures to stem the Asian economic crisis werethe opposite of those taken in the Great Depression, which marked the end ofclassical liberal capitalism The Asian crisis and the measures to combat it pro-duced several clear short-term effects, though their long-term effects are not asclear and remain in dispute First, because the local currencies had been devalued,imported products and parts became quite expensive This, in turn, caused rela-tively high rates of inflation and increased costs of production In contrast, localitems made with local parts and materials became much cheaper and more com-petitive in foreign markets Owing to reduced domestic demand for foreign items,

in combination with the increased export competitiveness of local products, thecrisis-stricken countries experienced immediate trade surpluses In Thailand, forinstance, “The central bank announced its seventh consecutive monthly currentaccount surplus of 1.48 billion dollars for March [1998].”31

Second, the combination of increased prices for imported parts and higherinterest rates drove many local businesses into bankruptcy The depreciated localcurrencies also contributed to high bankruptcy rates This was especially true ofthose companies or organizations that were especially vulnerable as the result oflarge unhedged loans denominated in foreign currencies Even some sound busi-nesses went bankrupt under the severe financial crunch

Third, as a result of the closing of many businesses and the unfavorable ness environment, unemployment rates became high by modern Asian standards.This was in part due to the closing of some bad but also some good businessesand in part to massive layoffs of surplus labor by the businesses that kept going.The already bad unemployment rate became worse since there were not manynew job openings for new entrants to the labor markets, in particular universitygraduates At the same time, traditionally secure jobs in government officesand government-owned or controlled businesses were no longer protected.Governments tried to reduce their work forces and, at the same time, privatizetheir services and businesses They also terminated or reduced subsidies for avariety of social organizations and activities, which, in turn, undermined theiractivities or reduced their budgets and personnel These cuts in budgets and per-sonnel across the public and private sectors resulted not only in worsening levels

busi-Outbreak of the Asian economic crisis 23

of unemployment and poverty but also in increasing economic inequality.

In Indonesia, for instance, “As of March [1998], the government estimated8.7 million people unemployed, nearly 10 percent of a total workforce of 90 millionand double the total of June 1997.” The World Bank estimated that 20 percent ofIndonesia’s 200 million people would be living in absolute poverty as a result ofthe crisis, compared with 11 percent in 1997.”32A separate report confirms thatpostcrisis Korea experienced the increasing income gap between different incomegroups In detail, the 1998 first quarterly income of the upper ten percent incomegroup increased by 3.2 percent while the lower ten percent income group suffered20.2 percent of loss in income during the same period, compared to the one-yearearlier levels.33

Fourth, the depreciation of local currencies and the collapse of financialmarkets made national assets cheaper and more vulnerable to hostile and nonhostile takeovers by risk-taking foreign capital Thus, an important effect of thecrisis was increased foreign ownership of domestic economic activities in bothproduction and distribution This increased foreign ownership was reinforced byAsian governments’ and private businesses’ aggressive attempts to attract foreigncapital or sell local government projects and private businesses to foreigners Thisbuyer’s market, overcrowded with sellers, further reduced the values of Asiandomestic assets that had already been lowered by the currency devaluations Eachcountry tried to do the same thing – sell their national assets – but the number ofwilling buyers was limited

Finally, even if the IMF economic guidelines or impositions sought to makegovernments smaller, government debts increased The reason was that govern-ments came to shoulder the costs of private economic actors’ adjustments to thenew economic environment The governments were forced to pay creditors anddepositors on behalf of bankrupt private businesses and financial institutions Atthe same time, they also issued bonds to tackle soaring unemployment and othersocial problems in the wake of the crisis For example, in 1998, the South Koreangovernment planned to issue state or public bonds amounting to about 40 billiondollars or 52 trillion won in total.34The rapid increase in government debts was

an important change because the Asian governments had not been in debt beforethe crisis; on the contrary, their financial positions had been strong

In sum, despite the external factors that played the crucial role in causing thecrisis, liberal policymakers in the crisis-hit countries did not blame internationalactors or institutions for the crisis but tended to perceive domestic institutions oractors as primarily responsible They did not dare to ask the foreign creditors towrite off their debt They accepted the IMF-imposed liberalization policies with-out much hesitation They sought to be more engaged in a US-dominated globaleconomic system by further liberalizing their markets and standardizing localbusiness conventions or institutions to fit the world system Amidst this liberal-ization and strong self-criticism, local businesses and institutions that did notfit well into this new environment died out Other local businesses were takenover by foreign capital The IMF policies that emphasized more transparent andmore liberal business practices and that did not pay as much attention to poverty

24 Governments and markets in East Asia

alleviation contributed to widening economic inequality The local governmentsnot only took over the private debt that the foreign creditors refused to write offbut they also shouldered the financial burdens required to liberalize the nonstan-dardized local institutions and buttress their falling economies by amelioratingincreased poverty As a result, the Asian governments rapidly became overloaded.

An excursus on the Philippines

Before concluding this chapter, some remarks are necessary about the case of the

Philippines It is obvious that the Philippines underwent a currency crisis, as was

shown in Figure 2.2, even though the peso was slightly less devalued than the

Malaysian ringgit However, whether this currency crisis led to a financial crisis and to a still larger economic crisis in the Philippines is not self-evident This is

why some scholars compare the postcrisis Philippines to postcrisis Taiwan.35Inother words, they think that the case of the Philippines was closer to Taiwan(which remained only on the periphery of the crisis) than to Malaysia or the otherseriously affected countries It is true that the Philippines was the least affected ofthe five countries displayed in Table 2.1 Yet, its currency and exchange marketswere as hard hit as Malaysia’s or Thailand’s The crisis also stifled the growth ratethat had started to take off before the crisis Although the absolute private con-sumption level did not turn negative,36 the crisis pulled down the consumptionlevel that had been reached right before the crisis Other key economic indicatorsshow that the crisis reversed the gradually improving economic conditions in thePhilippines In other words, the moment that the Philippines was about to cast offits sluggish economic image and become a kitten, if not a tiger, the crisis hit it.Consequently, I include the Philippines in this study

Conclusion

Despite some dissenting minority views, most policymakers in the crisis-hit Asiancountries did not view the crisis as primarily external in origin The prevalent viewwas that illiberal or corrupt domestic institutions and actors were responsible for thecrisis and had to be reformed to better fit the neoliberal global economy Politicalleaders and their advisors took advantage of the crisis to expand their neoliberalagenda The international creditors, including the IMF, strongly supported thoseneoliberal policies that were aimed at replacing the earlier state-led economicgrowth regimes with market-oriented and open economies The successful imple-mentation of such neoliberal policies presumably allows foreign capitalists toinfiltrate more easily into the somewhat closed Asian economies Yet, the Asian

governments turned out to be more powerful vis-a-vis their domestic business actors, although not vis-a-vis foreign capitalists, because they took all the financial

and other institutional reform initiatives and controlled the resources that werenecessary to implement the neoliberal policy package

Given the dominant view that domestic factors were primarily responsible forthe economic crisis, political elites did not unite against a common foreign

Outbreak of the Asian economic crisis 25